Go-Slow Fed Just Right, for Stocks at Least

“Highly accommodative monetary policy is needed for the foreseeable future.”

That quote from Fed Chairman Ben Bernanke last week, along with comments from the Bank of England’s Mark Carney and the ECB’s Mario Draghi, the previous week helped squelch the market’s concerns about the removal of stimulus. The big boys aren’t going to do anything hasty.

When you look at the state of the economy, investors may ultimately be glad for that.

Look at this morning’s retail sales report. Sales were up 0.4% from a month ago. The number was below expectations, but more telling was that a key metric – sales excluding gas, cars and building materials – was up only 0.15%; the figure is seen as a good gauge of the real underlying consumer demand.

That’s reinforcing the consensus that second-quarter GDP will come in below 1%. “Economists who revised their second quarter growth estimates down last week after wholesale inventories fell may be revising them down again today after weaker-than-expected retail sales,” FTN Financial analyst Mei Li wrote.

“Even more worrying,” Capital Economics’ senior U.S. economist, Paul Dales, wrote, “is that sales growth appears to be losing momentum heading for the third quarter.”

If second-quarter GDP does come in under 1%, it would mark the second quarter in the past three (fourth-quarter GDP was 0.4%) to fall short of that bar. Below 1% is a clear red flag. It’s well below what’s described as “stall speed” for the economy: The idea that with growth levels under 1.5%, the economy is like a jetliner that’s lost its engines.

Now, low but positive growth doesn’t necessarily mean the economy is going to slide into recession. The engines could kick back in, and indeed there’s evidence to show that the economy is as likely to stay out of recession as to fall into one. But it’s not exactly a comfortable place to be, and the real fear at a spot like this is that any kind of exogenous shock could throw the economy back into recession.

The weak economy is, of course, having a toll on regular folk. Don’t be fooled by that 195,000 print for the June jobs report. Employers may be hiring, but they’re offering low-paying jobs at part-time wages. Why? Forget Obamacare. Look at their profits. Corporate profit growth is weak, and revenue growth is negligible. With second-quarter earnings reports coming in over the next few weeks, the signs of this weakness are going nearly impossible to ignore.

Yes, the New York Fed’s Empire State survey, measuring the manufacturing sector in the region, rose to a five-month high, “but this is scant consolation when global demand is likely to remain weak and when the manufacturing sector accounts for little more than 10% of GDP,” Dales wrote.

The market doesn’t care about any of this, really. Bernanke’s comments last week were a dinner bell ringing. The S&P 500 hit a fresh closing record high on Friday at 1680, and will now look to vault its intraday high of 1687, set on May 22. Until the Fed makes noises about changing course, one can presumably buy with impunity. That’s the sales pitch, at least.

Indeed, after last week’s nose-tap from the Fed, everything is going great again in the stock market, and it really is a testament to the power of Fed jawboning that Bernanke managed to completely reset expectations about the tapering while keeping equities buyers – ultimately – happy. But the economy is not in a strong spot, and it really is not clear that it can withstand the Fed’s the removal of stimulus, which may be a comfort to the market, but it should be a concern for everybody else.